McGrath RentCorp

Ladies and gentlemen, thank you for standing by. Welcome to the McGrath Rent Corp third quarter 2021 conference call. At this time, all conference participants are in a listen-only mode. Later, we will conduct a question and answer session. At that time, if you have a question, you will need to press the star key followed by the one key on your telephone. This conference call is being recorded today, Thursday, October 28th, 2021. Before we begin, Note that the matters the company management will be discussing today that are not statements of historical facts are forward-looking statements within the meaning of the Private Security Litigation Reform Act of 1995, including statements regarding our full year 2021 financial outlook, as well as statements relating to the company's expectations, strategies, prospects, or targets. These forward-looking statements are not guarantees of future performance. and involves significant risks and uncertainties that could cause our actual results to differ materially from those projected. In addition to risks associated with the ongoing COVID-19 pandemic and related economic dynamics, important factors that could cause actual results to differ materially from the company's expectations are disclosed under risk factors in the company's Form 10Q and other SEC filings. Forward-looking statements are made only as of the date hereof, except as otherwise required by law. We assume no obligation to update any forward-looking statements. In addition to the press release issued today, the company also filed with the SEC the earnings release on Form 8K and its Form 10Q for the quarter ended September 30, 2021. Speaking today will be Joe Hanna, Chief Executive Officer, and Keith Pratt, Chief Financial Officer. I will now turn the call over to Mr. Hanna. Go ahead, sir.

Thank you, Gigi. Good afternoon, and thank you, everyone, for joining us on today's call. I will start the call with some comments on our third quarter 2021 performance, as well as our look ahead. Keith will provide additional detail in his financial review and outlook comments. So let's get started. First, I'd like to highlight the performance of our rental engines across the enterprise in the third quarter. Each of our business units delivered healthy rental revenue growth on a year-over-year basis. The mobile modular segment grew 26%, TRS Rentalco 6%, and Adler 11%. The rental growth we are seeing is due to the combined positive impact of the acquisitions we closed earlier this year, coupled with improving market conditions, and we are encouraged by the activity we are seeing from customers across our market segments. New equipment sales were less than expected for the quarter as we experienced some delays that affected customer projects due to supply chain issues, price escalations, and labor shortages at customer sites. These delays can cause projects to shift into future quarters for completion. Our pipelines are very healthy, so we view these occurrences as adjustments to a fluid supply chain situation and not an overall change in demand or customer outlook. In fact, activity levels are quite high and we have a nice backlog of projects that we are working on. Mobile modular is exhibiting a noteworthy trend in that our mix is changing favorably with the acquisitions of design space and kitchens to go. In the third quarter, our commercial rentals are now 67% of the total and education rentals are 33% as compared to 58% and 42% respectively in 2020. While our education business remains very attractive, commercial opportunities are also, and we are well positioned to continue to accelerate our commercial growth. In the third quarter, rental bookings for commercial orders were strong. We now have operating locations in eight more states, which increases our commercial reach significantly. The two acquisitions we completed this year were done so with dual strategic purpose to expand our geographic footprint and diversify our end markets we serve. We are in the early innings of realizing the benefits of these two acquisitions in our long-term strategic and operating plans. In our education business, we have held the line in a very unusual set of circumstances over the past 18 months. The shutdown of public schools on a national level was virtually unprecedented. Despite that disruption, our education business has remained resilient, and we continue to see significant future opportunities. Third quarter education rental bookings were also up year over year, and project activity is improving as educators turn their attention back to facilities now that students are physically in classrooms. Funding is available, and the needs are substantial and ongoing, and so we remain very optimistic about the long-term prospects for this part of the business. On the pricing side of things, our ability to increase rates has continued. This has been a priority, considering we are seeing more inflationary cost pressures in the business, which we recognize is a common theme for many companies currently. On a year-over-year basis, average rates for units on rent increased by 7%. We have sophisticated, dynamic, and automated tools that are deployed right to the sales representative when they are quoting customers, so we have the ability to make adjustments in the business for each quote made. We're encouraged by the overall industry pricing environment, and I'm confident that our discipline in this area will continue. The integration efforts with our two acquisitions are progressing nicely. We are on schedule and have completed the most important systems migrations and training to get new employees up to speed on our processes. We have had very little turnover through this process and are pleased with the capabilities and quality of the team members we now have as part of the family. Design Space locations open up new geographies and we're investing in new fleet. Overall utilization is high and the demand picture healthy. We also have opportunities to deploy mobile modular fleet in California for Design Space customers to improve utilization in the quarters ahead. We are very excited about the breadth of future synergy opportunities that we have just begun to realize. I will give two examples of where we are already realizing revenue synergies. We are now quoting and have closed orders for education customers in our new design space locations in the Pacific Northwest, which is a new revenue stream for us. We are also leveraging our school relationships to bring kitchens to go into school cafeteria and kitchen modernization projects. Our other rental divisions also contributed positively to our third quarter results. At TRS, we experienced continuing needs for general purpose equipment that serves in aerospace and defense, semiconductor, and 5G applications. TRS's 6% rental revenue growth represented continued investment in technology across the business as more companies were working on R&D projects to meet customer demands. At Adler, we have realized rental revenue growth sequentially for the last two quarters and 11% year-over-year. Project momentum has been improving and we realized growth in all of our regions with particular strength in the environmental services and industrial segments of the business during the third quarter. Our outlook has been gradually improving for this business, and we are optimistic for continued growth into 2022. I'm going to shift now from talking about our third quarter results to looking ahead. I will highlight some market opportunities and internal initiatives we are working on to grow our mobile modular business. We see much potential and as a result, we have increased our focus in numerous ways, especially with regards to our strategic mix shift and geographic expansion of our largest business. Our ideal projects are larger modular office or classroom projects that will be used to house employees or students for a long period of time. These customers tend to value product quality and service over price and units stay out on rent longer. Often these units contain customer specified modifications that are hard for competitors to duplicate. Our production facilities are unique in the industry and allow us to extensively and rapidly customize units to customer specifications. Many long-term customers return to us again and again because they can rely on our distinctive capabilities. With respect to the education segment germane to our classroom rentals, in the geographies we operate in today, student population growth is expected to increase by over one million in the next seven years. At 25 students per classroom, that equates to 40,000 more classrooms that districts may need during that time frame. That does not include additional needs for pre-kindergarten facilities that are being planned for in some states. History has shown that school districts will not be able to construct additional school building capacity fast enough to keep up with that demand and rental units will likely help to fill the gap. In addition, Over the last year, facilities have aged and modernization projects have not kept pace with the needs and the significant pent-up demand to bring the average 40-year-old classroom up to current standards. We have the product and the expertise in the industry to enable districts to complete their expansion and upgrade needs. We are working on many active projects and have a healthy backlog delivering in the fourth quarter and into 2022. As part of our modular solutions offering, we offer value to customers and increase our share of wallet in two ways. The first revenue stream is to supply the products and services that the customer needs to support their use of the building. These could be anything from furniture packages to wastewater holding tanks to HVAC filter replacement services. We call it Mobile Modular Plus. The second revenue stream and one that we believe is substantial is what can be done outside the building. By providing a customer with services such as electrical and plumbing connections, walkways, overhead covers, ramps and stairs, and other exterior enhancements, we provide a valuable package that encompasses all aspects of the rental or sale. We believe this is an underserved part of the market, one that our customers are very interested in pursuing with us. A typical contract for site-related services could be several hundred thousand dollars. There is no additional capital investment required, so the profit generated is an improvement to our return on capital. In the third quarter, our site-related services revenue increased 36% year-over-year to 7.5 million, and we anticipate healthy growth in the coming years as we market this capability to our customer base. On past earnings calls, we have also discussed the custom modular solutions opportunity, which we offer as a service to those customers looking for a more permanent or highly customized modular solution. We have established a capable team to pursue these opportunities across the country and are in the very early stages of seeing exciting growth in this part of the business. In 2020, permanent modular construction projects accounted for just 4.4% of the overall construction market, but represented a value of $8 billion. Not only has the modular construction market been expanding over the past five years, We believe that the modular construction mix in the market is early in a period of long-term secular growth. The combination of secular growth and fewer competitors with the capabilities to execute this business well make it an attractive focus area for us. The team we have is busy working to capture market share, and I am optimistic about our future prospects. We will have more to report in future periods as we grow our capabilities and establish ourselves in this market segment. Finally, we are seeing more opportunities to deploy capital for organic fleet growth, and we remain optimistic about the activity we are seeing in our markets. We continue to make prudent decisions to support growth while managing for solid financial returns on our investments. I would like to sincerely thank all of our team members, suppliers, and partners in helping us navigate successfully through unusual market conditions and the simultaneous integration of two acquisitions, which has been a big effort. I would like to repeat that we are enthusiastic about our rental revenue growth across all of our business segments. We remain steadfast in the strategic management of all of our businesses with clear purpose toward enhancing our total company performance and future returns for our shareholders. Now, let me turn the call over to Keith.

Thank you, Joe. As Joe described, we had solid performance from our core rental businesses in the quarter compared to the third quarter of 2020. We were encouraged by continued improving business demand trends over the course of the quarter. In my financial review today, I will provide highlights from our third quarter results and our current outlook for full year performance. As a reminder, our third quarter results include two recent acquisitions, Kitchens to Go, which closed on April 1st, and Design Space, which closed on May 17th. Together, these acquisitions contributed approximately $16.7 million to total revenue, $3.7 million to adjusted EBITDA, and $0.03 to earnings per diluted share for the quarter. Looking at the overall corporate results for the third quarter, total revenues increased 11 percent to $173.3 million. The majority of the revenue increase was from improved rental operations. Each of our rental segments grew rental revenues year over year and sequentially, reflecting generally improved business conditions. Third quarter adjusted EBITDA increased 5% to $66 million, and consolidated adjusted EBITDA margin was 38%. compared to 40% a year ago. Breaking the results down by rental division operating performance compared to the third quarter of 2020, mobile modular total revenues increased 15 million, or 16%, to 110.4 million. The primary driver was 12.1 million higher rental revenues with approximately three-quarters of the increase attributed to rental revenues from Design Space and Kitchens To Go. The average monthly rental rate for the quarter was 2.65 percent, which was 7 percent higher than a year ago, reflecting stable and improving pricing conditions, as well as some mixed impact from the acquisitions. Average fleet utilization for the third quarter increased to 76.5 percent from 76.3 percent, and quarter-end utilization was 76.7 percent, reflecting generally improved market conditions in recent months. Higher rental revenues were partly offset by 40 percent higher inventory center costs and 31 percent higher depreciation expense. resulting in rental margins of 59 percent compared to 63 percent a year ago. The higher inventory center costs reflect the addition of the acquired businesses, higher business activity levels, and inflation pressures for materials and labor costs. Sales revenues decreased $2.9 million to $26.4 million. primarily due to lower new equipment sales. We continue to see supply chain disruptions causing delays for completion of some new equipment sales projects. At TRS Rentalco, total revenues decreased 0.8 million, or 2%, to 35.1 million. Rental revenues for the quarter increased 6%. we saw continued strength in general-purpose test equipment rentals, which grew 8%. Communications equipment rentals were flat compared to a year ago. The average monthly rental rate for the quarter was 4.02%, down 1% compared to a year ago. This slightly lower average rental rate reflects a continued mixed shift towards more general-purpose equipment rentals, that tend to have longer-term transactions and longer asset lives compared to communications. Overall market pricing conditions remain stable. Average utilization for the third quarter was 66.9%, compared to 67.1% a year ago, and rental margins were unchanged at 41%. Sales revenues declined 31% year-over-year to $4.8 million, with gross profit decreasing 1% to $3 million. Gross margins were 63% compared to 44% a year ago. These sales and related gross margins can fluctuate depending on customer requirements, related mix of equipment sold, equipment availability, and funding. At Adler Tank Rentals, total revenues increased $3 million, or 16%, to $22.3 million on higher rental, rental-related services, and sales revenues. Rental revenues for the quarter increased 11%. Demand improvement was broad-based, with growth in all five of our geographic regions. The average monthly rental rate for the quarter was 3.3%, up 3% compared to a year ago, primarily due to improved pricing for both tanks and boxes during the quarter. Average utilization for the third quarter increased to 48.1% from 44.1%, and quarter-end utilization was 50.4%. Elevated maintenance costs pressured rental margins, which were 51% compared to 55% a year ago. Moving on, the remainder of my third quarter comments will be on a total company basis. Selling and administrative expenses increased 9 million, or 29%, to $39.9 million. 6.1 million of the increase was a result of the acquisitions, which included 2.4 million higher amortization of intangible assets. The remainder of the increase reflected a return to more normalized SG&A spending compared to a year ago. Interest expense was 3.2 million, an increase of 1.2 million as the result of higher average debt levels partly offset by lower average interest rates. The third quarter provision for income taxes was based on an effective tax rate of 28.7 percent compared to 20.8 percent a year earlier. The increased rate this year was due to increased business activity levels in higher tax rate states. and lower excess tax benefits from stock-based compensation. For the full year, we currently expect an effective tax rate of between 26 and 27 percent. Turning to our year-to-date cash flow highlights, net cash provided by operating activities was 136.3 million, an increase of 4.8 million. We paid $285.6 million for the acquisition of substantially all of the assets of the Design Space and Kitchens to Go businesses. Rental equipment purchases were $90.4 million, compared to $65.7 million last year. This excludes the $129.1 million estimated fair value of Design Space and Kitchens to Go rental assets acquired this year. Healthy cash generation allowed us to pay $31.6 million in dividends. Total net borrowings on bank lines of credit and private placement notes increased $236.8 million. At quarter end, we had net borrowings of $459.5 million, comprised of 160 million notes outstanding and $299.5 million under our credit facilities. with capacity to borrow an additional $132.5 million under our lines of credit. The ratio of funded debt to the last 12 months' actual adjusted EBITDA was 1.92 to 1. Finally, updating our financial outlook. The recent positive demand trends across each of our business segments are encouraging. However, we have continued to see supply chain disruptions causing some project delays and margin pressures for new equipment sales in our modular and EnviroPlex segments. In addition, elevated material and labor costs have pressured modular rental margins. Taken together at this point in the year, we are tightening our full year guidance range. We currently expect Total revenue between $618 and $628 million compared to our previous outlook of $610 to $640 million. Adjusted EBITDA between $245 and $249 million compared to $245 to $260 million previously. And gross rental equipment capital expenditures between 108 and 118 million, compared to 100 to 120 million previously. We are encouraged by the overall improving business activity levels we have recently seen, and we are focused on solid execution for the remainder of the year. That concludes our prepared remarks. Gigi, you may now open the lines for questions.